Apr

19

woman burning stacks of worthless currency in her stove for heat in WeimarThe echoes from the days of Weimar begin to be heard. Respectable "Western" opinion (NYT, WaPo, NBC News, all cosmopolitan Canadian and European media) now blames all the world's intolerance on (1) the Israelis and (2) the one group in America — fundamentalist Christians — who think the Israelis are wise to mistrust their Islamic neighbors. There were two questions on which the varieties of Socialists in Germany in the 1920s — whether Marxist or Nationalist — always agreed: (1) the Christian churches, whether Catholic or Lutheran, needed to be severely restricted in their liberties and opinions and (2) the nation's defeat in the Great War and the financial collapse that followed were entirely the fault of the Jewish bankers in Germany and America.

Russ Sears comments:

Complexity, as in computers to cars, or jet planes can make the world safer, but often in return for that safety comes loss of control. This is why there was a spike in auto deaths after 9/11, people did not want to give up control to air regulators. http://thestatsblog.wordpress.com/2008/01/16/fear-of-flying-after-911-led-to-increase-in-auto-deaths/ This is why third party inspections are so valuable, that even the Government often can add value by running them. However, complexity can make the world more un-safe by adding risks of a chain reactions. Sometimes loss of control, by the individual, make make you safer in some situations, but in total it means there is more risks of a death spiral within the system. This is the argument for the "right to bear arms".

As I have said before to understand what happened you must look first to Model Risks, IMO. Yes, GS and most of the other investment bankers were selling complexity, however, it was not a pure buyers beware situation. As CDO's were only able to be "test driven" by the quasi regulators the rating agencies. It is much more akin to "food" inspection than automobile driving. The buyer only knew he has had food poisoning 24-48 hours after, and even then the true cause is unknown. It appears that GS handed the regulators a good sample stored properly in the freezer, and attested to the purity of the rest of the meat. They knew full well that some had been left out in the heat exposed, and they put that pile together. The rating agencies look stupid for trusting them. The cardinal rule of dealing with regulators, is never to make them look stupid.

Where the over-allocation was, however, was in model risks itself. If the buyers are too blame, it is not because they did not understand the complexity of the deal; but because they did not see that the conquest of model risks had allowed a bubble to develop. A bubble not just in housing but also any engineered financial products and vehicles tied to them including the originator investment banks. The world was blind to model risks, so that is where everybody found the best reward to risks, overwhelming the system.

It is my contention that just as "Standard Oil's" monopoly was not seen as dangerous and in opposition to capitalism itself until 20 years after it was broken up. So too will the "too big to fail" banks find themselves in 20 years.

I do not believe the the big 13 banks see this yet. But in destroying the confidence in "models"; they have destroyed themselves. They themselves are so complex, that they are run by "models" not good management . When the modelers are revealed that they are not as pure as the fallen snow. be it through French rogue trader, AIG's CDS writers or GS CDO cherry picking, it becomes clear that rather than minimally adding efficiency to the system, by being too big to fail, they exponentially add risks to the system by bring nuclear potential to it without a way to "trust but verify". I simply would perfer to see this break-up through market pressure, rather than regulatory. However there is no pity on the guy that makes the king look like a fool.
 


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